A Framework for Examining Asset Allocation Alpha

Despite the large body of literature on the importance of asset allocation as a primary determinant of portfolio performance, the definition of asset allocation “alpha” remains a poorly defined concept. In this article, we show that a portfolio’s total alpha can be decomposed into alpha from asset allocation and manager selection. The asset allocation alpha can then be further attributed to value-add from 1) taking additional risk exposure relative to the policy portfolio, 2) exploiting the relative value differential between assets with similar risk exposures, and 3) timing the cyclicality in risk premia.